U.S. Plunge in Gas Drilling Means $1 Billion Lost Profit

A Halliburton Co. natural gas drill stands in a gas field outside of Rifle, Colorado. Four of the biggest service companies, including Halliburton Co. and Schlumberger Ltd., will see their collective third quarter operating profit drop by more than $1 billion in North America compared to a year earlier, according to estimates from Houston-based Tudor Pickering Holt & Co. Photographer: George Frey/Bloomberg

Oct. 15 (Bloomberg) -- The U.S. shale boom is turning into
a bust for companies that provide drilling services as the
number of rigs seeking natural gas has fallen faster than any
time in the last 24 years.

The overall U.S. onshore rig count has dropped 9 percent
this year, seeing the most sustained declines since the
recession-led plunge in 2009. Those declines, caused in part by
the gas industry’s shift to oil production, are eating away
demand for drilling services and worsening a shale-equipment
glut that’s pushing down prices.

Four of the biggest service companies, including
Halliburton Co. and Schlumberger Ltd., will see their collective
third quarter operating profit drop by more than $1 billion in
North America compared to a year earlier, according to estimates
from Houston-based Tudor Pickering Holt & Co. Prices charged for
fracking services are expected to drop 14 percent this year and
another 8 percent next year, according to PacWest Consulting
Partners LLC, a Houston-based industry adviser.

“It’s a battle ground out there,” Joe Hill, an analyst at
Tudor Pickering, said in an interview. “With activity
contracting, it’s a fairly toxic mix. The real question is how
bad this actually gets.”

Once-surging profits from hydraulic fracturing, or
fracking, are fading as oil and gas producers became more
cautious about spending amid lower energy prices and global
economic troubles that are damping demand.

Rig Count

As producers shift production to oil, the number of working
gas rigs has fallen 48 percent this year to 422, the fastest
decline rate since Baker Hughes Inc. began tracking the count in
1988. Even in oil drilling, where gains have helped counter
losses in gas, the rig count has flattened, falling below 1400
this month for the first time since June.

At the same time, rising competition and oversupplies of
gear have swamped the market. Halliburton and its peers ordered
more than $10 billion in new fracking equipment to meet demand
as drilling accelerated in U.S. shale fields over the last five
years, according to PacWest estimates. Equipment now exceeds
demand by 30 percent, measured by the amount of horsepower
available to drive the fracturing process, with about 15.6
million horsepower competing to meet demand for 12 million,
PacWest says.

The earnings declines for servicers in the U.S. may deepen
through the end of the year, said John Keller, an analyst at
Stephens Inc. in Houston. As the companies added more equipment
and competition heated up, customers began demanding price
concessions.

Emboldened Producers

Pricing for shale work is expected to tumble further as the
contracts that were signed at higher rates begin to expire and
new deals are signed at lower prices. For exploration and
production companies that have seen profits strained by the
higher costs, those prices can’t fall fast enough.

“We are seeing reduced costs over the next few years,”
Torstein Hole, senior vice president in charge of U.S. onshore
work at Statoil ASA, said in an interview. “But it has perhaps
been slower than I would have expected.”

High service costs have combined with lower gas prices to
shrink cash flow for producers, leading some companies such as
Chesapeake Energy Corp. and Occidental Petroleum Corp., to
curtail drilling programs and contributing to the drop in
demand.

Bargaining Power

Statoil, based in Stavanger, Norway, knows it
“definitely” has more bargaining power and is talking with its
service providers about scaling its operations up or down in the
Bakken Shale of North Dakota based on the prices it’s being
charged, Hole said.

“They know that we need to see the cost level come down in
our activities,” he said. “We are having a constructive
discussion.”

The shift to oil may be the biggest factor contributing to
the slump in demand, Schlumberger Chief Executive Officer Paal
Kibsgaard told analysts and investors on the company’s second-quarter earnings call July 20. To frack a well, servicers pump
millions of gallons of water along with sand and chemicals
underground to crack rock and unlock oil and gas. Fracking an
oil well requires less horsepower than the more intense gas
wells that have higher pressures.

Less Horsepower

“The number of horsepower needed on a liquids job is
significantly lower than what you need on a dry gas job,”
Kibsgaard said. “That’s really what’s driving the oversupply in
the market.”

Schlumberger, the third-largest fracking-service provider
in the U.S., is mothballing an undisclosed amount of pressure-pumping equipment because it’s not needed.

Halliburton, Baker Hughes and Weatherford International
Ltd. are anchoring the bottom of the Philadelphia Oil Service
Sector Index, which also includes rig operators that are
benefiting from growth in offshore drilling. The index has risen
3.1 percent this year.

While most offshore rig operators are registering double-digit gains, Halliburton has fallen 1.9 percent this year. Baker
Hughes has declined 7.6 percent and Weatherford has dropped 17
percent so far this year. Schlumberger, which relies more on
business outside North America for about two-thirds of its
revenue, has risen 6.5 percent.

Third Quarter

All four companies are expected to report third quarter
operating profit margins that range from 12 to 19 percent,
compared to a range of 22 to 29 percent a year earlier,
according to James West, an analyst at Barclays Plc.

Halliburton, the world’s largest fracking-service provider
with more than half its total revenue generated in North
America, is seen as leading the way down for third-quarter
margins. The company expects a margin drop of as much as 5.1
percentage points in the region compared to the second quarter,
Chief Financial Officer Mark McCollum told investors Sept. 5 at
a conference.

Baker Hughes, the second-largest fracking-service provider
in the U.S., has about half of its pressure-pumping fleet
exposed to the lower-priced spot market, Charles Minervino, an
analyst at Susquehanna International Group LLP, wrote Oct. 2 in
a note to investors.

“Margins are unlikely to recover in the near future,” he
wrote. Baker Hughes has about 1.7 million horsepower of
fracking equipment in the U.S., according to PacWest.

Boom Gone

Weatherford, whose U.S. fracking fleet is less than half
the size of third-ranked Schlumberger, is expected to report the
smallest drop in regional operating profit in the third quarter,
with a margin of 16.5 percent, down from 21.7 percent a year
earlier, according to Luke Lemoine, an analyst at Capital One
Southcoast Inc.

Servicers won’t see the kind of profits they enjoyed during
the height of the shale boom coming back any time soon, Jim
Rebello, managing director in the Houston office at Duff &
Phelps LLP, said in a telephone interview. The current pain from
falling prices is compounded by the amount of investment in
equipment that’s now idled.

“They spent a lot of money on the equipment,” Rebello
said. “I don’t get the sense that Q4 is going to be materially
different than Q3. I wouldn’t expect any rebound in Q4.”